GMF - The German Marshall Fund of the United States - Strengthening Transatlantic Cooperation

This article was originally published in National Journal. 

BERLIN—After years when the overseas affiliates of U.S. corporations derived more than half their earnings from their European operations, corporate boards are taking a hard look at the Continent’s long-term growth prospects and deciding to invest elsewhere.

A case in point is Dow Chemical’s announcement this week that it is closing Styrofoam plants in Hungary and Portugal and idling one in the Netherlands, citing “very poor market conditions and unfavorable economic
outlooks.” Other U.S. companies have quietly decided to postpone investing in long-planned new facilities in Europe.

“It’s the law of the jungle,” said Joseph Quinlan, chief market strategist of Bank of America Capital Management. “Slower growth in Europe means new capital will be deployed in faster-growing markets.”

The lack of enthusiasm has less to do with the euro crisis, which is abating, than with grim forecasts for long-term economic growth. European economists recently interviewed in Berlin, Brussels, Paris, and Warsaw, Poland, generally agreed that annual economic growth in Europe won’t be more than an anemic 1 or 2 percent for the foreseeable future. And that could be the best-case scenario. The worst case could be no growth for a decade.

Such stagnation would cause headaches for President Obama or his successor, sapping the American recovery and altering the global balance of economic power. What’s more, the Europeans’ resignation to slow growth raises new doubts about the European Union as a useful global economic partner in the years ahead.

The euro area—17 nations that use the euro as their currency—will grow by only 1.4 percent per year in 2025, according to estimates by the Organization for Economic Cooperation and Development, the think tank of the major industrial economies based in Paris.

If Europe expands at this pace and the U.S. economy grows just a percentage point faster (roughly the difference in transatlantic annual growth rates over the past two decades), the American economy, which is now slightly smaller than the European market, will be 10 percent larger by 2025, and the gap will be rapidly widening, according to Quinlan’s estimates. “There is a danger of a two-tiered transatlantic economy merging,” he warned, with Europe a permanent laggard.

European economists argue that this growth differential is unavoidable. From 1820 to 1950, the Continent averaged just 1 to 2 percent annual growth, and they contend that it is simply reverting to that trend line. Moreover, Europe’s rapidly aging—and, in some countries, shrinking—population means fewer people in the workforce to spur growth. Productivity in the euro area has increased on average only 0.9 percent a year over the past decade, compared with 2 percent in the United States.

These realities, Europeans say, dictate that their economies are destined to grow slowly. “Europeans perceive this drop in output as permanent,” said Jean Pisani-Ferry, director of Bruegel, the premier Brussels-based economics think tank. “The question is, just how much smaller and poorer are we likely to be?”

Many Europeans are surprisingly complacent about this prospect. The widely heard economic mantra is “prosperity, not growth,” a celebration of Europe’s high standard of living rather than a focus on expanding its economy for the future. “There is a lack of ambition on the part of Europe to think big and to act big,” Quinlan said.

Such resignation will have consequences for whoever inhabits the White House next year. Slow growth will complicate Europe’s ability to dig itself out of its debt hole and threaten the global economy with periodic financial crises. “Growth is the great panacea for getting yourself out of debt and balancing the budget,” said economist Martin Baily, a senior fellow at the Brookings Institution in Washington. “If they can get stronger growth going, it will really help on the debt side.”

If European growth averages close to 2 percent, said Jacob Kirkegaard, a research fellow at the Peterson Institute for International Economics in Washington, “that will be sufficient to muddle through. If it’s close to 1 percent, that is problematic.”

A sputtering European economic engine will also undermine long-term growth prospects in certain U.S. states, according to research by Wells Fargo Securities. Utah, where

5.6 percent of its economy derives from exports to Europe, primarily gold and silver, could be the hardest hit. South Carolina, where 4.1 percent of the state’s gross domestic product comes from shipments to Europe, mainly autos and auto parts, would also suffer. In West Virginia, 3.9 percent of its economy is tied to commerce, primarily coal exports, with Europe. European stagnation will reinforce America’s
attraction as a safe haven for global capital, keeping the dollar strong and domestic interest rates low. That will inhibit American competitiveness, especially exports and the good jobs they create, while helping U.S. purchasing power. Cheap capital will also sap the next president’s incentive to cut the U.S. budget deficit.

More subtly, said David Gordon, head of research at the Eurasia Group, a Washington-based global consulting firm, “an economically desultory Europe will be a much less useful partner for the United States, both in terms of its capabilities and in terms of its likely willingness to partner with Washington in addressing all sorts of global economic and security issues.”

The euro crisis could flare up again, posing a grave threat to Obama’s reelection. But even if the president dodges that bullet, he or his successor will face the prospect of an economically crippled Europe that is resigned to its fate. The global economic dynamic may never be the same. 

Bruce Stokes joined GMF as the senior transatlantic fellow for economics at the German Marshall Fund in Washington, DC.